Court Rejects "Flow-Down" Provision in Subcontract

Flow-down clauses are common in construction contracts. It is often used in subcontracts. A flow-down clause incorporates by reference the terms of the prime contract into the subcontract. It binds a subcontractor to the terms of the prime contract between the owner and the general or prime contractor.

Courts, however, are reluctant to enforce flow-down provisions against subcontractors because they are at times overly broad or are inconsistent with the terms of the subcontract.

In the recent case of In re Wonder Works Construction Corp. v. R. C. Dolner, Inc., the appellate court ruled on the enforceability of a flow-down arbitration provision against a subcontractor.

Background

217 Mulberry Street Company, LLC, as project owner, sought to arbitrate a claim against the general contractor, R.C. Dolner, Inc., for damages resulting from deficiencies in the construction performed pursuant to the prime contract. The prime contract contained an arbitration agreement. The general contractor in turn demanded that the subcontractor who performed the disputed work, Wonder Works Construction Corp., join in the arbitration.

The subcontract stated that with respect to the work, the subcontractor agreed to be bound by every term and provision of the contract documents. The contract documents were defined to include the prime contract between the general contractor and owner. The subcontract also required the subcontractor to assume toward the general contractor all of the duties that the general contractor had assumed towards the owner with respect to the subcontractor’s work.

Based on the “flow-down” language of the subcontract, the general contractor named the subcontractor as a party to the arbitration. The subcontractor argued that it never agreed to arbitrate its disputes with the general contractor. When the general contractor would not voluntarily discontinue the arbitration, the subcontractor went to court, seeking a ruling that it was not obligated to participate in the arbitration between the owner and the general contractor.

The trial court ruled in favor of the general contractor, directing the subcontractor and general contractor to proceed to arbitration. The subcontractor appealed.

Decision

The appellate court reversed and held that the subcontractor was not required to be joined in the arbitration between the owner and the general contactor. According to the appellate court, an alternative dispute resolution agreement, like an arbitration agreement, must be clear, explicit and unequivocal and must not depend upon implication or subtlety. Under New York law, incorporation by reference clauses in a construction subcontract bind a subcontractor only as to prime contract provisions relating to the scope, quality, character and manner of the work to be performed by the subcontractor.

Since the subcontract lacked an express and specific agreement to arbitrate, the appellate court held that the subcontractor did not waive its right to ordinary judicial process, which includes the use of the court system to resolve disputes.

Comment

“Ordinary judicial process”, or the use of the courts, is considered a “right” that is not readily waived. As shown in this case, flow-down clauses will bind a subcontractor to prime contract provisions relating to the scope, quality, character and manner of the work to be performed by the subcontractor. However, flow-down provisions will not necessarily bind a subcontractor to other terms agreed to between the owner and general contractor, such as an agreement to arbitrate. The prudent contractor should be aware of this distinction when negotiating flow-down provisions.

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